Mergers & Acquisitions Amongst The Top 20 In The Semiconductor Industry (1987-2013)
In this post, revenue development of companies with and without Mergers & Acquisitions are analysed amongst the top 20 in the Semiconductor Industry in the period (1987-2013). Often Mergers & Acquisitions are evaluated based on “short-term” financial impact. Here we try to get an impression of the longer term effects focused on growth in revenues. We are more interested in the long term revenue development of companies with an M&A somewhere in the period 1987-2013. So, we measure an integral effect of pre-M&A performance, M&A and post M&A performance.
Mergers & Acquisitions (M&A) is a firm’s activity that deals with the buying, selling, dividing and combining of different companies and similar entities without creating a subsidiary, other child entity or using a joint venture. The dominant rationale used to explain M&A is that acquiring firms seek improved financial performance. Due to the scope of this analysis, financial performance amongst the top 20 are likely most improved by (1) increasing economy of scale, (2) increasing economy of scope, (3) increasing revenue or market share, (4) increasing synergy.
The restriction of M&A amongst the top 20 will hide a lot of acquisitions. Acquisitions are a normal element in this industry. “Eat or be eaten”. For example: from 2009 until 2013 Intel acquired Wind River Systems,McAfee,Infineon (Wireless),Silicon Hive,Telmap,Mashery, Aepona, SDN, Stonesoft Corporation,Omek Interactive, Indisys, Basis,Avago Technologies. Only Infineon will be mentioned in this analysis since it is a top 20 player.
The revenue dynamics in the top 20 in the period 1987-2013
The semiconductor industry has seen quite some changes in the last decades. Chart 1 shows the changes in revenues, but also in ranks and is used to visualize the stability in the industry
The chart was constructed in the following way. For every year, the revenues of the top 20 are stacked from nr. 20 at the bottom to nr. 1 at the top. The green top line for example in 2013 is the total revenue of the top 20 earned that year. The difference between the green and the orange line in 2013 (second from the top) is Intel’s revenue. The difference between the orange and the black line represents the revenue of Samsung.
Sometimes between the years cross-overs are present These cross-overs occur, when companies change position in the revenue ranking. For example the third line from the top (Qualcomm) in 2013 took over that position from Texas Instruments between 2011 and 2012.
In the period 1987-1995 the lines are quite parallel, ranking is more or less stable and growth is exponential. The only disruption of the ranking order is Intel (green line), in 1992 taking over the nr. 1 position from NEC Semiconductors. In 1996, the growth curve ends in a downturn. From now on the industry has to get used to a cyclic revenue pattern. Patterns that are typical for exponential growth systems hitting a constraint. (See my blog on failing network systems) or as business analists call it, the industry is in a consolidation phase.
Also the number of changes in ranking (the number of cross-overs) increase as we are entering the 21th century. An alternative of the graph above is that we only consider the changes in ranks and keep the revenue data out. The picture then looks like Chart 2. The chart looks even a bit more messy, but this is caused by the many crossovers in the lower ranks. Although changes in ranks count as 1, the change in revenue under these lower ranks may be quite small and therefore less dramatic as may appear from Chart 2. For readibility reasons, we will use this chart to plot M&A.
A Measure of Industry Stability
One can express the level of stability in a distributed key parameter (i.e. revenue) over a set of actors over a period (i.e. one year) by a single parameter, let ‘s call it the stability index.
The revenue stability index is in this analysis defined as the correlation between two ranked and sorted revenues of the top 20 in consecutive years. The stability index is 1 in case the revenues of all players is equal to the previous year. It equals 0 in case the ranking is fully random, which hopefully will never happen.
In Chart 3, the revenue stability index is shown over the period 1987-2013. One can observe, a cyclic pattern that suggests that the companies are influencing each other dynamically. Furthermore, also a trend is visible towards increasing dynamics. This should be no surprise for the incumbants of course. Additionally, the total revenue of the top 20 is plotted (red line). The correlation between the two curves is -0.45. The more revenue is generated from a consolidating market, the higher the instability. This phenomena is called “The Tragedy Of The Commons” (See my Blog (unfortunately in Dutch) “Het Managen van Grenzen aan de Groei” (“Managing Growth Boundaries”). In this case during the stage of exponential growth (in general a sellers market), the competitive interaction at the supply side is limited. As soon as, the market becomes a buyers market, competitive interaction at the supply side increases and this interaction together with the constrained market leads to instability.
Underlying Drivers of M&A in the Semiconductor Industry
The semiconductor industry shows a lot of mergers and acquistions. Partial acquisitions, where we lack data on the revenue of this acquisition, are kept out of the quantitative analysis. In Chart 4, the red lines indicate the M&A, that will be discussed. We have identified the following underlying drivers in our analyses.
- The semiconductor industry is The Enabler of the electronification and digitization of the world. There are nowadays not many data processing products or systems that do not contain semiconductors. This market has grown from US 29.4 B$ in 1987 to a US 213 B$ in 2013. In the growth phase the market size increased with 15-16% per year in the consolidation phase with 7-8% per year.
- The semiconductor industry is a capital intensive industry. The high capital intensity causes the business to have a cyclic character. This also implies that for the bad times, quite some cash is available during the good times in order to be able to survive the next downturn. The cash-to-sales ratio of some companies was sometimes higher than 30%. As we will see this is attractive for private equity firms.
Scale is important. Only the top 3 have increased market share compared to the rest in the top 20. (See Chart 4).
- Reduction of vertical integration. Initially, many corporations had their own semiconductor activities. Since the industry during the consolidation phase had a cyclic character with strong (financial) ups and downs, the parent companies were less and less prepared to absorp these cycles in their corporate results.
- Semiconductor companies became independent from their parents and were no longer restricted by the parent’s corporate strategies
- An additional step in deverticalization was the introduction of the fabless business model, companies that design and sell semiconductors without having a “fab”. In 2010 7 out of the top 12 were fabless. In this way, fixed assets were substantially reduced, making the companies less vulnerable during the downturns.
- The reduction of vertical integration also makes it easier to re-allocate (parts of) the activities to other companies / network structures and in this way achieve economy of scale or acquire new competences.
The M&A categories amongst the top 20 in the semiconductor industry
Reshuffeling in the semiconductor industry took place applying different M&A categories, (1) spin-off , (2) horizontal merger, (3) LBO (Leveraged Buyout), (4) acquisition. For comparison, we also analyse (5) new entrants.
Spin-off is defined here as a type of corporate transaction forming a new company or entity.
The following spin-offs are considered. Infineon Technologies AG, the former Siemens Semiconductor, was founded on April 1, 1999, as a spinoff of Siemens AG. In 1988, as a first step Lucent Technologies was composed out of AT&T Technologies and spun off in 1996. In 2000, the semiconductor activity of Lucent Technologies was spun off and became a new legal entity called Agere. Agere in 2007 was acquired by LSI in 2007. ON Semiconductor was founded in 1999. The company was a spinoff of Motorola’s Semiconductor Products Sector. It continued to manufacture Motorola’s discrete, standard analog and standard logic devices. (Relative small spin-off not represented in the chart)
The mergers in this analysis are horizontal mergers. These mergers are difficult to implement. Integration, often means higher efficiencies and laying of personnel, but also reallocation of management responsibilities which all together make it difficult to achieve the synergetic advantages.
In 2003, AMD and Fujitsu created a joint-venture company named Spansion focused on flash memories and in 2005 AMD and Fujitsu sold their stake. In 1996 Hyundai Semiconductors became independent via a Initial Public Offering and merged in 1999 with LG Semiconductors, the name changed into Hynix Semiconductor in 2001. In 1987, when SGS-Thomson was formed as a merger of SGS Microelettronica and Thomson and by 1998 withdrawal of Thomson out of SGS-Thomson, changing the name into STMicroelectronics. In 2002, semiconductor operations of Mitsubishi and Hitachi were spun off and merged to form a new separate legal entity named Renesas, in 2010 Renesas was merged to Renesas Technologies by merging with NEC Electronics Corp., a spin-off of NEC in 2002.
- Leveraged Buy Out
In an LBO, private equity firms typically buy a stable, mature company that’s generating cash. It can be a company that is underperforming or a corporate orphan—a division that is no longer part of the parent’s core business. The point is that the company has lots of cash and little or no debt; that way the private equity investors can easily borrow money to finance the acquisition and can even use borrowed funds for more acquisitions once the company is private. In other words, the private equity firms leverage the strong cash position of the target company to borrow money. Then they restructure and improve the company’s bottom line and later either sell it or take it public. Such deals can produce returns of 30 percent to 40 percent.
In 2006, Philips Semiconductors was sold by Philips to a consortium of private equity firms (Apax, AlpInvest Partners, Bain Capital, Kohlberg Kravis Roberts & Co. and Silver Lake Partners) through an LBO to form a new separate legal entity named NXP Semiconductors. Philips was very late compared to other parent companies to disentangle from the semiconductor activities and as the NXP CEO’s Frans van Houten stated, the LBO was the only option left. In 2006, Freescale (formerly known as Motorola semiconductors) agreed to be acquired by a consortium of private equity firms through an LBO. 2006 was a dramatic year for Freescale since Apple decided to let there microprocessors be supplied by Intel instead of Freescale.
Acquisitions are part of life in the semiconductor world. As already stated, we only consider acquisitions amongst the top 20.
In 2010 Micron Technology acquires Numonyx. In 2011 Intel takes over Infineon Technologies wireless division, Texas Instruments acquires National Semiconductor, Qualcomm acquires Atheros Communications and ON Semiconductor acquires the Sanyo semiconductor division. In 2012 Samsung Electronics acquires Samsung Electro-Mechanics share of Samsung LED and Hynix Semiconductor was acquired by the SK Group. In 2013 Intel acquires Fujitsu Semiconductor Wireless Products, Samsung Electronics sold their 4- and 8-bit microcontroller business to IXYS, Micron Technologies acquires Elpida and finally Broadcom acquires Renesas Electronics’ LTE unit.
- New Entrants
Even in this competitive, capital and know-how intensive industry there have been new entrants. The new entrants group is dominated by US companies.
Marvell Technology Group, Limited was founded in 1995. Marvell is a fabless semiconductor company. MediaTek Inc. is a fabless semiconductor company founded in 1997.Nvidia was founded in 1993.
New entrants in the top 20 are Qualcomm was founded in 1985 and has become the nr. 3 in revenue in 2013. Micron Technology, Inc. founded in 1978 and is nr. 4 in revenue in 2013. Samsung Electric Industries was established as an industry Samsung Group in 1969 in Suwon, South Korea in 1974, the group expanded into the semiconductor business by acquiring Korea Semiconductor and occupies the nr. 2 position.
In chart 10 per M&A category, the development of the revenue are presented. Spin-offs (blue colors). FROM is the total revenue of the parent organisations and TO is the total revenue of the new founded companies. The same format is applied to Mergers (green colors) FROM and TO and LBO (orange colors) FROM and TO. The “others” category is a mix of companies, from which we lack qualititative data on the M&A activity).
There were some new entrants in the industry between 1987 and 2013. Some of them succeeded to make it into the top 20. There were also new entrants in the top 20, but most of them started a decade earlier. They occupy nr.2,3 and 4 in the top 20 in 2013. The nr. 1,2,3,4 all started as semiconductor companies or were embedded in a component conglomerate, like Samsung. These companies have a culture and a managerial mindset for component business. The new entrants and Intel have grown substantially to 50% of the total – top 20- revenue in 2013. Most players in 1987 were conglomerates, where semiconductor activities where managed on the impact on corporate level and not on winning the semiconductor game. The companies that went into a spin-off, horizontal merger or LBO are together delivering 25% of the revenue in 2013. Compared to the “new entrants”, we have to conclude that companies had to go through a deverticalisation process via spin-offs, mergers or LBO have been part of a consolidation trajectory with in absolute terms no growth between 1995 – 2013.
It is tempting to speculate about the underlying causes, so here are some hypotheses:
- With respect to the spin-offs, these where rather small companies, maybe too small to grow business, although Infineon initially shows quite some growth. But analists report a lot of cash problems in this growth period. In the end the spin-offs did not lead to substantial growth.
- The mergers, especially the Japanese companies have declined in ranking during the period that they were still part of a conglomerate and then have tried to regain scale by merging. Again the result in terms of growth is very disappointing.
- There is evidence of poor post-acquisition performance of large acquirors (Harford, 2005)
- There is a study on bidding merger contests, that for the winning bidder, where before the contest each bidder had a fair chance of winning the merger contest, the stock returns of the winning bidders is outperformed by those that lost the bid. However, the opposite is true in those cases with a predictable winner (Malmendier, Moretti, Peters, 2012)
- The LBO’s occur very late in the deverticalisation stage. The performance after 3 years of the LBO is not inspiring, both showed a severe loss of revenues. My impression also based on an interview with the CEO of NXP, van Houten, is that they were just too late with considering M&A. For Philips all options were gone, even a last possibility, a merger with Freescale was considered, but rejected by Freescale. Fortunately, the last few years NXP seems strong enough to recover from this transition.
- Humans always seek for a “Why”, sometimes it is not there and it is just bad luck.
- LBO’s, mergers and LBO’s are strategic interventions changing the footprint of companies, changing the structure, maybe these companies did not have a structure problem, but a portfolio problem (markets, applications, products)
I guess statements of Derek Lidow, president and CEO of market research firm iSuppli in 1996 are spot on explaining the strategic M&A decisions leading to no growth.
“….. the chip industry itself has been unable or unwilling to take the hard steps necessary for consolidation. Many chip companies are run by engineers, who tend to think in terms of technology rather than of how best to manage a product portfolio….”
“The real leverage in this kind of a deal is to do portfolio management,” he notes, which means managing groups of products by market segment or geographic region, for example, rather than by technology category. “That’s usually not done in the semiconductor industry,”
- Harford, Jarrad, 2005. “What drives merger waves?,” Journal of Financial Economics, Elsevier, vol. 77(3), pages 529-560, September
- Ulrike Malmendier, Enrico Moretti, Florian S. Peters, “Winning by Losing: Evidence on the Long-Run Effects of Mergers”, NBER Working Paper No. 18024, April 2012